INTRODUCTION
An
incentive is something that motivates an individual to perform an
action. The study of incentive structures is central to the study of all
economic activities (both in terms of individual decision-making and in terms
of co-operation and competition within a larger institutional structure).
Economic analysis, then, of the differences between societies (and between
different organizations within a society) largely amounts to characterizing the
differences in incentive structures faced by individuals involved in
these collective efforts. Ultimately, incentives aim to provide value for money
and contribute to organizational success.
“An incentive is
something that is provided to employees in order to get them to work harder to
achieve the goals and objectives of a company. Each employer may use different
types of incentive plans for employees. Some use monetary rewards for better
than average performance while others prefer to reward their employee's
certificates or awards of some sort.”
UNDERSTANDING
MORE ON INCENTIVES
The term ’incentive’ is not peculiar to economics
alone, it is a general term used in many spheres of life. However, in
economics, it is a very important word. In fact you can never study economics
successfully without understanding what incentives are. One American economist
says that economics in its entirety is a study of people’s response to
incentives. Whether that statement is accurate or not is subject to one’s point
of view, but what comes out clearly is the fact that incentives are truly
central to the study of economics.
A dictionary definition of an incentive is ‘something
that motivates you to do something’. In economics one can say that an incentive
is a benefit, reward, or cost that motivates an economic action. Human beings
do things deliberately and purposefully, and, naturally, people expect to
benefit from their own decisions and actions. Before someone decides to produce
something and sell it to people, they should have taken time to think and
decide that doing this will help them earn something. Likewise, before a
consumer buys anything, they know (or at least they think) that they are going
to benefit from the product. In strict sense, it is more than just the usual
concepts or trade and economics, it is about human nature. No one does something
for no reason. Not when they have to spend time and resources in doing so.
POWER OF
INCENTIVES
The surest way to get people to behave in
desirable ways is to reward them for doing so—in other words provide them with
incentives. This is so obvious that you might think it hardly deserves mention.
But it does. You might say that people shouldn’t have to be rewarded (bribed)
to do desirable things. Even when you acknowledge that incentives are
necessary, it is not obvious how to establish the ones that motivate desirable
action. In one of my classes, I recently encountered the emotional resistance
some people have to using incentives to accomplish good things. I was pointing
out that the elephant populations in Zimbabwe and South Africa were expanding
because policies there allow people to profit from maintaining elephant herds.
A student who had stressed his environmental sensitivity responded that he
would rather not see the elephant saved if the only way to do so was by relying
on people’s greed. In other words, he was willing to stand on principle as long
as only the elephants suffered the consequences. His principle, one that I
suspect was shared by others in the class, was that good things should be
motivated by compassion and concern, not self-interest. I couldn’t resist
telling him that I would be impressed with his moral stance if, when he
required delicate surgery to save his life, he refused to go to a surgeon and
let his mother perform the operation instead. Convincing people that incentives
are appropriate is not nearly as difficult as determining the appropriate
incentives. Of course, we want incentives that motivate people to behave in
desirable ways, but what is desirable? In some situations, the answer is rather
obvious. But not always.
Every
time you do a good thing, you necessarily reduce your ability to do something
else good. This is an unavoidable implication of scarcity and is captured in
the concept of opportunity cost. There are always tradeoffs, and we often need
information from many sources to know the best course of action. So the two
important functions of incentives are:
(1) to communicate information on the
best things to do.
(2) to motivate people to do them.
1. Incentives and the
Treatment of Prisoners In some cases the desirable course of action is
clear, and these cases let us concentrate on the power of incentives to
motivate people. The British government’s practice of contracting with ship
captains to transport prisoners to Australia in the 1860s provides a good
example. The survival rate of the prisoners shipped to Australia was only 40
percent, which everyone knew was much too low. Humanitarian groups, the church,
and governmental agencies appealed to the captains on moral grounds to improve
the survival rate with more decent treatment. Despite these appeals, the
survival rate remained at 40 percent. Finally, an economist named Edwin
Chadwick recommended a change in incentives. Instead of paying the captains a
fee for each prisoner who walked onto the ship in England, Chadwick suggested
paying them for each prisoner who walked off the ship in Australia. The
improvement was immediate and dramatic. The survival rate increased to over 98
percent, as the captains now faced a strong incentive to protect the health of
prisoners by reducing the number crowded into each ship and providing them with
better food and hygiene in passage.
2. Creating Incentives Directly and
Indirectly Desirable incentives can sometimes be created directly, as in
the case of shipping prisoners. You know what you want done, so you create a
reward (say, a cash payment) for doing it. Unfortunately, in most cases the
type of behavior we desire requires subtly balancing competing objectives. In
such cases, creating a direct incentive to do one thing can be too effective
because it causes people to ignore other things. The former Soviet Union was
full of the perversities that can result from the direct application of
incentives. Managers responded to incentives to increase the production of shoes,
for example, by making only a few sizes, hardly caring which sizes best fit
consumers. Such incentives affected people’s behavior, but they failed to
promote the social cooperation necessary for a productive economy. When the
objective is to motivate people to cooperate, desirable results can rarely be
realized by directly establishing incentives. Instead, incentives have to be
established indirectly through a set of general rules that allow them to emerge
from social interaction. Traffic demonstrates the importance of general rules
in motivating cooperation. As aggravating as rush-hour traffic is, traffic
flows reflect an amazing amount of spontaneous social cooperation. Without that
cooperation, tens of thousands of commuters in every large city would get
caught in a hopeless tangle of traffic. The basic rules that allow motorists to
so effectively cooperate with one another are simple:
(1) drive on the right
side of the road;
(2) go on green, either speed up or prepare to stop on
yellow, and stop on red;
(3) don’t exceed the posted speed limit by more than
ten miles per hour; and
(4) don’t touch.
These rules convert our incentive to
get to our destinations safely and conveniently into a pattern of accommodating
behavior that serves the interests of all.
The market economy is the ultimate
example of how a set of rules can create a setting in which private incentives
motivate social cooperation. Market economies don’t create incentives directly.
Indeed, in a literal sense, markets don’t create incentives at all. The most
important incentives come from the subjective desires of individuals: the
incentive to find love, to earn respect, to make the world a better place, to
provide for their families. Markets are the rules of conduct that harmonize
these various incentives by making it possible for people to communicate their
desires to others. The prices, profits, and losses commonly referred to as
market incentives, are created by people’s interacting with one another. These
incentives, which can be communicated only through markets, contain information
that promotes social cooperation.
Types of incentives
Incentives can be grouped into four main categories,
or types. These types of incentives apply both to economics and to other
spheres of life.
Financial incentives
Perhaps in the modern times, financial incentives are
more dominant. Before you get to business, you know that it is always about
profit. Employment is all about salary and remuneration. It is true that
sometimes people do voluntary jobs for some reasons other than financial ones.
But ultimately, the main reason why human beings do business or work at all in
modern days is money. It is this type of incentive that informs the idea of
product promotions, where people are told that if they buy a certain product;
they stand a chance of winning a certain amount of money.
Moral incentives
Moral incentives motivate people to do things on the
basis of right and wrong. People are encouraged to do certain action because
morally, it is the right thing to do. Aspects of morality today are quite
diverse, varying broadly from one society to the next, and it is practically
impossible to define morals of society in general. Moral incentives therefore
generally appeal to an individual’s own conscience.
Natural incentives
“What will happen if I do this?” We often ask
ourselves. Humans are naturally curious creatures, and we do many things for no
reason other than to find out what the consequences are.
Coercive incentives
Coercive investments emphasize on the consequences of
not doing something, rather than the benefit of doing it. A good example is
blackmail. You are warned to do something or risk being beaten up, or being
reported to your seniors. That is a coercive incentive.
TYPES OF
INCENTIVES FOR GREATER PERFORMANCE
There are many different types of
incentive plans, with the annual performance bonus being the best known. Profit sharing plans are also very common, and most people in the
workforce have hopefully experienced at least one of these approaches. Other,
less well known plans can include cash rewards for reaching a specific goal,
merchandise rewards, additional vacation time, peer review plans, and salary at risk plans.
Every different type of incentive
plan has both benefits and drawbacks. An annual performance bonus is very
infrequent, once yearly, and therefore difficult to link to performance. This
type also tends to cause to employees to focus on what makes them look good,
sometimes at the expense of what may be best for the company's bottom line.
Plans with a profit sharing
component work well in that they tend to emphasize that what is best for the
company is also best for the employee. When company profits increase and more
money is available for bonuses, the employees get more money. During lean
times, however, bonuses can be quite small. For small companies, this large
fluctuation in compensation can become a problem. There is also a problem with
this approach in that there is sometimes a long delay between the time when the
effort that earns the profit occurs and the time when the bonus is paid.
Some incentive plans can be counter
productive. A salary at risk plan, for example, gives employees a minimum base
salary, and they can only earn the full salary if certain performance
objectives are met. Plans of this type tend to cause employees to become
discouraged, particularly if the performance objectives seem out of reach. This
approach feels like a punishment to the employee, an approach known as negative reinforcement. Studies have shown that positive reinforcement of desired
behavior is much more effective.
Often, a company will use different
types of plans at the same time. This approach allows the company to take advantage
of the benefits of the various incentives while minimizing their disadvantages.
Those that use merchandise prizes, for instance, can be very closely linked to
a specific activity, while one that uses long term objectives can also be in
place to help keep all of the employees motivated and focused over the entire
year.
Using different types of incentive
plans within the same company allows the company to respond and motivate
employees who may be very different. Some employees find it easier to focus on
long term goals, while others need more immediate incentives. What motivates
employees can be different also, with some desiring more vacation time while
others prefer more money. Using different plans allows the employer to respond
to these unique needs and find ways to encourage all workers.
Incentive Compensation Plans:
- Commonly recognized business strategies, such as customer reward programs or commission paid to employees, are examples of the incentive compensation plan in action. Customer reward programs are a common form of incentive compensation plan.
- The structure of deferred compensation plans varies among companies. Some have elective plans, while others are non-elective.
Long Term Incentive Plans:
- Some companies offer both a short-term and a long-term incentive plan, and the latter is based on the results of the former, although rewards are much more substantial in the long-term plan. Under the terms of a long-term incentive plan, employees usually receive their bonuses in the form of cash, company stock, or profit shares.
- Some employees find it easier to focus on long term goals, while others need more immediate incentives. What motivates employees can be different also, with some desiring more vacation time while others prefer more money.
Performance Incentive Plans:
- There are many different types of incentive plans, with the annual performance bonus being the best known. Profit sharing plans are also very common, and most people in the workforce have hopefully experienced at least one of these approaches.
- Profit shares involve the employee being rewarded with a fixed percentage of the company’s profits during the period of time that the long-term incentive plan is in effect. Employees who participate in long-term incentive plans often pay lower taxes on bonuses paid through such plans than on bonuses paid on short-term plans.
Incentive Plans:
- Profit shares involve the employee being rewarded with a fixed percentage of the company’s profits during the period of time that the long-term incentive plan is in effect. Employees who participate in long-term incentive plans often pay lower taxes on bonuses paid through such plans than on bonuses paid on short-term plans.
- Other, less well known plans can include cash rewards for reaching a specific goal, merchandise rewards, additional vacation time, peer review plans, and salary at risk plans. Every different type of incentive plan has both benefits and drawbacks.
Bonus Incentive Plans:
- Employees who participate in long-term incentive plans often pay lower taxes on bonuses paid through such plans than on bonuses paid on short-term plans.
- There are many different types of incentive plans, with the annual performance bonus being the best known. Profit sharing plans are also very common, and most people in the workforce have hopefully experienced at least one of these approaches.
Executive Incentive Plans:
- Other parts of remuneration also include insurance, long-term incentive plans, paid expenses, and employee benefits and perks.
- The latter two benefits are mostly common to owner or executive remuneration plans. Regional additions are common factors in terms of creating competitive compensation packages.
Sales Incentive Plans:
- The things that are likely to better remind the employee of the fact he or she received an incentive include things like travel employee incentive plans, where a person will get to take a memorable trip.
- Profit shares involve the employee being rewarded with a fixed percentage of the company’s profits during the period of time that the long-term incentive plan is in effect. Employees who participate in long-term incentive plans often pay lower taxes on bonuses paid through such plans than on bonuses paid on short-term plans.
Ways Incentive Plans Improve Performance
Incentive plans
are frequently used in the workplace with the hopes of improving employee
performance. Common sense suggests that incentive plans would increase worker
effectiveness, but studies have found that this is simply not true in all
situations. It is essential for employers to understand how incentive plans
actually affect performance for each individual employee in each individual
situation, rather than relying on a one-size-fits-all approach to improving
performance.
Significance
·
Employee
performance is directly linked to an organization's financial performance.
Properly implemented recognition and incentive plans improve job satisfaction
and overall employee engagement. A 2009 "Chief Executive Magazine"
article says employee engagement has a direct effect on a company's financial
performance. Not only do engaged employees have a dramatic positive impact on
the bottom line, but disengaged employees have also been found to damage the
organization.
Motivation
·
Contemporary
motivation theories posit that workers must be motivated by a combination of
internal and external elements. For example, internal motivations, or the
satisfaction one receives from a job well done, tend to have a longer-lasting
effect on motivation, yet can be reinforced with rewards and incentives. It is
essential for managers and supervisors to develop an understanding of what motivates
individual employees to determine appropriate incentives for improving
performance.
Routine Tasks
·
In an April 15,
2010 PBS Newshour broadcast, Daniel Pink, author and former chief speechwriter
for Al Gore, discussed his theories and research on the impact of incentives on
various types of work. Pink says performance of routine tasks requiring
left-hemisphere thinking can be improved with the use of incentives. These
routine tasks include such activities as entering numbers into a spreadsheet or
constructing one small piece of a widget on an assembly line. Workers who
regularly perform "logical, linear, sequential and analytical" tasks may
be easily influenced to improve performance through the use of incentive plans.
Creative Tasks
·
Pink also argues
that many contemporary work environments require "abilities characteristic
of the right hemisphere: artistry, empathy, inventiveness, big-picture
thinking." Not only is performance of these creative tasks not improved by
incentive plans, but it is often hindered. Work tasks requiring this type of
right-brain thinking are more likely to be motivated by nonmonetary incentives.
According to Barry Shwartz, a psychologist from Swarthmore College who appeared
on the PBS Newshour broadcast, "Money isn't a natural part of anything we
do." Money, he says, "disconnects people from the real point and
purpose of their activity."
AN INCENTIVE
IDEA
Incentivizing your employees
involves motivating your employees to perform well. It may not be necessary to
reward them with anything that costs money if the incentive is to make the
management staff proud of them. A good leader shows their employees respect and
tells them how much they are appreciated on a regular basis. When the staff has
a great respect for the leaders in the business they will work hard so that
they can provide good results and make their leaders proud. Many employers
overlook how much impact praise and recognition can have on the motivation of
their employees.
Some employee incentives resources offered by companies include:
Some employee incentives resources offered by companies include:
1.
No cost refinance for employees Incentive
gifts
2.
Corporate incentive gifts
3.
New car incentive
4.
Incentive travel
5.
Early retirement incentives
6.
Incentive pay program
7.
Lifestyle vacation incentives
8.
Performance based incentives
9.
Tuition incentive program
10.
Attendance incentives
11.
Incentive travel
It is important that when an
incentive is offered, especially with certain types of incentive plans for
employees, that the rules and guidelines are made very clear. If there is
confusion about the incentive and the employees do not understand what the
requirements are, you may find that the whole purpose of motivating them does
not work because you did not explain it well.
It is a good idea to lay out the guidelines, including the minimum requirements that are necessary to qualify. This should be put on paper or in an email and posted somewhere that all employees can access it. It should be made very simple and give an example as well. It should suggest that the employee speak to their Supervisor if they are unclear about the process so they can get any misconceptions cleared up.